Re-engineering AMD

SUNNYVALE, Calif. - Dirk Meyer was six months out of college and working as an engineer for Intel when he ran into Bob Noyce, the company’s legendary co-founder and co-inventor of the integrated circuit, at the punch bowl at a shareholders meeting. “He talked to me for 30 minutes – some snot-nosed kid he’d never even heard of,” Meyer recalls. “He asked, ‘How do you like my company? What do you like? What are you confused about?’”

Noyce’s accessibility left a lasting impression – and today Meyer is making himself available for far tougher questions from the investment community in his new role as CEO of Intel arch rival Advanced Micro Devices (AMD). One of the biggest: Can this understated engineer pull this underdog back from the brink of financial disaster?

No mistake, AMD is in a rough spot. After a series of miscues over the past two years, the company faces a depressed stock price, about $5 billion in debt from its purchase of graphics chipmaker ATI, shrinking cash flows and a run of spotty earnings. Last quarter, for instance, the company reported revenues of $1.35 billion, about $100 million short of expectations. Gross margins were five points lower than expected at 37.1%, and market share losses to Intel (INTC) continued.

Meyer, who had been AMD president before rising to CEO last month, knows the company’s potential. He has worked there for nearly 13 years, since he was hired to help transform it from a duplicator of Intel’s chips into an innovator. In pursuit of that goal, Meyer led engineering for the Athlon processor, a breakthrough that eventually put AMD on the map as a creative force in semiconductors. Determined to fund that seminal effort, then-CEO Jerry Sanders sold off several other businesses. “Jerry had a very clear mission: to create a truly viable alternative to Intel,” says Meyer.

For Meyer, AMD’s current position bears some similarity to his early days – only the task isn’t creating an Intel alternative, it’s preserving one. Sure, AMD’s reputation is much better established, and its relationships with customers are deeper.

But like Sanders was back then, Meyer is focused on funding AMD’s tomorrows by getting rid of expensive assets AMD can do without. That’s why the company has announced recently that it would sell its digital TV business to Broadcom (BRCM) for $192.8 million in cash. (The handheld business is also for sale.) These moves, Meyer says, “give us an opportunity to get some cash in the door and improve the balance sheet, lower the debt burden.”

This is necessary because chipmaking is an expensive business. Once you’ve hired hundreds of engineers to design a chip (not cheap) and tested their work (harder than it sounds), you’ve got to set up massive, state-of-the-art manufacturing facilities, called “fabs,” to create them. Doing that by yourself requires an investment of billions of dollars – money Intel has in abundance, and AMD doesn’t. Even then, you’re not done. For each generation of chips, the fab needs to be upgraded to create more sophisticated chips that pack more power into the same tiny package.

Since it can’t afford to do this anymore, AMD plans to spin off its chip manufacturing operations by year’s end, probably by hawking them outright or by inking a partnership with a larger chipmaker – a maneuver akin to selling a house and leasing it back. Meyer is vague on the exact timing of a deal, but he knows it’s probably the best thing the company can do quickly to improve its financial position, and its reputation with investors. A successful transaction would see AMD pocket a good chunk of cash, while handing manufacturing to a company that can better keep pace with Intel’s world-class operations.

“We’re going to go away from a captive fab model to more of a fables model for the CPU part of the business,” Meyer says. “Longer-term, it relieves us of the burden of having to shell out cash for these gigantic factories. So it will be more of a pay-as-you-go model like a traditional fables semiconductor company.”

Until that happens, many on Wall Street will stay tentative about AMD. “We remain on the sidelines with regard to shares of AMD,” Patrick Wang at Wedbush Morgan Securities wrote in a recent research note to investors. He has a hold rating on the stock, but said he could get more optimistic when a turnaround seems more imminent. Glen Yeung of Citi Investment Research acknowledges the strategic importance of AMD’s efforts to slim down, but says he remains neutral on the company because it’s hard to see how it can successfully gain ground on Intel.

When I sat down with Meyer in a wood-paneled conference room at AMD headquarters in Sunnyvale last week, he didn’t sugarcoat the company’s challenges. Dressed in a collared shirt and no tie, the 46-year-old CEO looks and sounds more like an engineer than the typical chief executive with a ready sales pitch. Other AMD executives I’ve talked to have hemmed and hawed when I asked them exactly how AMD got into this bind; Meyer puts it plainly. “Unfortunately we bought a company some of whose businesses went downhill at the same time ours did,” he says, referring to ATI. “We’re in the midst of really lousy financial performance, and it’s that piece that we’ve really got to turn around.”

In fact, there remain big moneymaking opportunities for AMD, if the company can get its act together. While dominant PC players like Intel, Hewlett-Packard (HPQ) and Dell (DELL) are looking for growth in mini-laptops and mobile devices, AMD could grow plenty by picking up a few points of market share in the plain-old PC business, where today it has less than a 20 percent share. (Apple (AAPL) has recently shown the power of this concept; as its Mac computers gain share in the PC market, it has scored billions of dollars in sales.)

First, Meyer will have to free AMD from its habit of becoming a victim of its own success. More than once it has launched a popular product then struggled to keep up with demand or deliver timely improvements. The most glaring recent example was AMD’s Opteron processor for servers, code-named Barcelona, which last year arrived late and underpowered. AMD also took on new business from Dell and had trouble filling orders for other chips, angering retail partners.

Retailers, Meyer says, perceived the shortages as “AMD screwing our [manufacturing] customers and screwing retail,” Meyer says, “so they said let’s take a couple of steps back from AMD for a couple of quarters.” When that happens, your market share drops and you can forget about profits.

It now falls to Meyer to straighten things out – which prompted me to ask about his leadership approach. Though he played football and baseball growing up and witnessed his share of overbearing coaches, Meyer says he prefers to be the type who pulls someone aside and says, “I’m going to trust you” – and to use his vote of confidence as motivation.

Meyer also recognizes that the personal touch can go too far. At times, he told me, it has led him to give an executive too many chances when that person should have been more quickly replaced with someone better suited to the job.

He’ll have very little margin for error in the next few months. Wall Street expects to hear details of the manufacturing spin-off by the end of the year, and to see profits in 2009 after seven straight quarters of losses. If he can engineer that, Wall Street will have plenty to cheer about.

fab-lite, just like ruiz wanted. hmmmm. we'll see how this turns out, to me it sound slike a bad idea. just like it would be bad for coke to sell off it's bottling facilities and lease them back, theres a reason they build the facility in the first place. full control of production does matter.